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Lessons from Nvidia
I suppose you follow the market and are aware of stocks price action. Nvidia has been quite an interesting company to watch recently, from all perspectives. On the one side, it struggled fundamentally throughout last year and the beginning of this one since the semi industry entered a down cycle. However, it reported results last Wednesday and guided for 11bn in revenue for the next quarter, implying a 52% sequential growth and way above they record revenue of 8.2bn in Q2 of 2022.
Nvidia’s stock surged 24% on Thursday, gaining almost 200bn in market capitalization, the largest daily increase in history I believe. This makes Nvidia’s YTD performance to be 162% and more than 200% up from its low on October 2022. I tend to avoid posting about market behavior and talking about specific stocks on Sunday issues, but I believe we can learn several lessons from this special case.
You often hear people talking about multiples and I almost always use them to get a sense of a company’s current valuation. However, Nvidia proved that, isolated (as we know), multiples are useless. Forward-looking estimates are made by analysts based on their projections of who knows what, but it is that, their projections. Then, platforms let you see things such as the forward PE a company is trading at.
Even though it can act as a form of guidance or rough estimate, we have to be very careful with them. Nvidia has been called crazy overvalued throughout 2023 and that’s mainly due to what analysts expected the company to earn. Before reporting results, Nvidia traded at a 70 forward PE ratio. After reporting, the multiple CONTRACTED to 43. Why? Analysts simply changed what they expect of Nvidia’s future after that monster guidance.
I think of shorting in the same way someone referred to leverage:
“If you are intelligent, you don’t need it. If you are stupid, you shouldn’t be using it anyway”
It’s not an exact match, but I do think shorting is not necessary. I got tired of hearing people calling Nvidia an ‘easy short’ on almost all prices since the 230 reached in February/March. The market taught me many lessons in 2020/21 that I think I’ll never forget. What’s high can always go higher. What appears to be overvalued can get even more highly valued.
Even though the market may be irrational, it’s not always instantaneous that it gets back to rationality and it’s very unlikely that we time the peak of madness. As Graham (I believe) said:
“The market can stay irrational much longer that you can remain solvent”
I’m not claiming Nvidia is expensive nor that it was before reporting results, I’m just talking through recent experience. My intention is for you to think for yourself, not to think like me.
You simply don’t know
I was talking to a friend a couple of weeks ago and he told me that due to Nvidia’s price action (wildly skewed upwards), the market must know something. He believed there was some inside information spreading out. I, having Meta’s recent experience very fresh in mind, said that the market has no clue of what it’s doing. I thought and said the market is often irrational so it’s just a matter of time.
Nvidia reported results and had the biggest increase in quarterly guidance I’ve ever seen. Conclusion, you never know what the market knows nor if it’s being irrational or not. It can be, as it was with Meta or it cannot be, as it appears it has been with Nvidia throughout March. You never know.
There is alpha in widely covered companies
The efficient market hypothesis claims that there’s no way to outperform the market on a risk-adjusted basis since the market knows all information available and new data gets priced immediately. This makes people exaggerate the theory in large caps because of how well covered they are.
If there’s a person left that thinks there’s no alpha to be found in large caps, I’d confidently tell them they are wrong. If the market really knew what was brewing and everything about these large caps, Nvidia wouldn’t have gone up 162% YTD, nor would have Meta 113% or all other large tech, which stand around the 40% YTD return.
The next Nvidia is Nvidia
I started re-reading Zero to One, from Peter Thiel and there’s a quote that goes like this:
“The next Larry Page will not invent a search engine. The next Mark Zuckerberg will not invent a social media. The next Bill Gates will not create an operating system. If what you are doing is copying these guys, then you learned nothing from them.”
There are two implications here. Firstly, Facebook is out there and there will not be another Facebook, same with Google and Microsoft. At the same time, the next group of great entrepreneurs will succeed because they will try something different. You do not get massive alpha by copying others.
Nvidia is a fundamentally good business and is the only Nvidia there is and will be. There is not ‘next Nvidia’ or ‘Chinese Nvidia’. If the addressable market of the leading company is big enough and expanding, the most likely thing is that the leader will capture most of the remaining share.
Unusual piece in comparison to the last couple of ones, but I felt it was needed. There are some more lessons I think could be drawn from Nvidia’s case. All of them are a compilation of thoughts, I haven’t really done any research nor seen what people said. I try for this newsletter to be unique and uniqueness is easily achievable, you just have to think.
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